Microloans have become popular over the years as a way to finance small businesses, especially for entrepreneurs who struggle to obtain financing through traditional banks. These types of loans are generally smaller than typical bank loans, averaging around Rs. 13,000, and have shorter repayment terms. In this article, we will discuss the pros and cons of using a microloan to finance your business.
Pros of Microloans
1. Easier To Qualify For
Microloans are designed to help entrepreneurs who struggle to get traditional bank loans. As a result, they have lower qualification requirements, making it easier for small business owners to apply and receive funding. For example, individuals with a low credit score can still apply and potentially receive a microloan.
2. Flexibility In How Funds Can Be Used
Unlike traditional bank loans, micro loans lenders are often more flexible in how the funds can be used. Entrepreneurs can use the funds to cover a variety of expenses, including working capital, inventory, equipment, or other business-related expenses.
3. Lower Interest Rates
Micro loans lenders often have lower interest rates than traditional bank loans. This is because these lenders are often non-profit organizations, and their goal is to help small businesses succeed rather than make a profit. Additionally, microloans often have shorter repayment terms, which means you won’t be paying interest for as long.
4. Building Credit For Your Business
Small business owners who are just starting out may have limited credit history. By obtaining and repaying micro loans, entrepreneurs can build up their credit score and increase their chances of qualifying for larger loans in the future.
Cons of Micro Loans
1. Smaller Loan Amounts
The average microloan is around Rs.13,000, which may not be enough to cover all of your business needs. For example, if you need to purchase expensive equipment or have a large inventory, you may need to seek other financing options.
2. Shorter Repayment Terms
While shorter repayment terms can be a benefit in terms of paying less interest, it can also be a disadvantage. If your business is not generating enough revenue to cover the monthly payments, it could lead to defaulting on the loan.
3. Higher Fees
Microloan lenders may charge higher fees than traditional banks, such as application fees, origination fees, and closing costs. These fees can add up quickly, making the overall cost of the loan higher.
4. Limited Availability
Microloan lenders may have limited availability in certain geographic areas or may only offer loans to certain types of businesses. This can make it difficult for some entrepreneurs to access these types of loans.
SME Loan vs. Microloan
While both SME loans and microloans cater to small businesses, there are some differences to be aware of. SME loans are typically larger than microloans and have longer repayment terms. They are designed for more established businesses that have demonstrated a track record of success.
On the other hand, microloans are aimed at small businesses or startups that are just getting off the ground. They are smaller in size and have shorter repayment terms than SME loans. Additionally, microloans tend to have lower interest rates but may have higher fees.
Which option is right for your business ultimately depends on your specific needs and financial situation.
Microloans can be a great option for small business owners who are struggling to obtain financing through traditional banks. They have lower qualification requirements, are more flexible in how funds can be used, and typically have lower interest rates. However, there are also some downsides, such as smaller loan amounts and shorter repayment terms.
It’s important to weigh the pros and cons before deciding if a microloan is right for your business. Additionally, it’s always a good idea to do your research and explore all financing options available to you before making a final decision.